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  • Writer's pictureWilliam Webster

Does consumption matter?

For the last six years central banks have tried to get us to spend more. One way to do this is to lower interest rates. It makes saving less attractive and encourages borrowing through lower servicing costs. The theory is that as consumption rises it creates more employment and increases tax revenues. There is however something very wrong with the way monetary policy is working. It has lowered interest rates but the levels of growth are anaemic. Furthermore in the UK as employment appears to rise productivity is falling. A conundrum that economists can’t really explain. Indeed some think the growth rates experienced over the last two decades were an aberration. Has a slowdown in technological advancement and an older population has returned us to a much lower trend in the future? Perhaps a crucial question hasn’t been asked. On what do we spend our income? Four things (I’m sure economists have much better explanations):

  1. Necessities: they keep things ticking over (food, fuel);

  2. Non essentials: nice to have but you can live without (new cars, foreign holidays);

  3. Investments that store value (shares, property);

  4. Investments that create value (roads, rail, communications). If the boost felt from QE is spent on (2) and (3) is this desirable? Surely it means we suck in imports and boost asset prices but do little for future productive capacity. QE lobbyists would point out that it creates jobs and there is a wealth effect. But are those jobs sustainable and just who benefits from asset price inflation? Furthermore pushing interest rates down expecting business to invest ignores the expected net rate of return. This surely means monetary policy has lost its edge and if anything a large proportion of its effect has leaked away. In this respect what we spend our income or borrowing on matters. The trouble is policy makers don’t seem to focus on it.

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